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GUARANTEE PROFIT AND MANAGE CASH FLOW
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You Must Master Cash Flow Management to Make a Profit
If you don’t understand the financial side of your company, you will continually struggle to turn a profit and grow your construction business. Yet, understanding your financial statements is confusing, stressful, and – depending on who does your reporting – up for interpretation.
How to Guarantee Profits AND Manage Cash Flow for Your Construction Business
Have you experienced this frustration and lack of confidence that comes with muddled cash flow management? It creates a downward spiral.
But, construction business owners should be as good at their business as they are at their craft. And, we believe it’s possible to get you there.
Below is the profoundly simple system for guaranteeing profits and managing your cash flow at the same time.
The 4-5-3 Framework
Profit First for Contractors uses a basic system called the 4-5-3 Framework:
4 Core Principles
5 Foundational Bank Accounts
When used together, this framework provides the confused, frustrated, stressed out business owner (that’s you) with clarity about cash flow management: what to charge, when to hire, how to save for taxes, what to pay yourself, and how to predict profitable future growth.
Let’s break it down.
The 4 Core Principles of Profit First for Contractors
- Small Plates
Did you know if you want to lose weight, dieticians recommend using smaller plates? That’s right. You will consume less calories that way.
The same goes for your construction business.
When all your money is in one back account, it’s like one big plate. When you see it, you spend it. But when you divvy up your cash into multiple bank accounts, you’ll spend less because it looks like you have less.
- Serve Sequentially
The 5 “Small Plates” or foundational accounts are: Profit, Tax, Owners Compensation and Operating Expenses (OPEX for short). (Keep scrolling for a breakdown of the 5 Accounts.)
When you look at your revenue like this, you start making better decisions. That $10,000 or $100,000 check isn’t all your money. It has to serve the business in its proper place.
- Remove Temptation
Back to healthy eating. If you want to create a healthy environment, you better trash all the chips and cookies. The temptation to sneak a bite is too big when that stuff is easily accessible.
The same goes for your profits and tax. You might think you’ll pay yourself back, or you’re making a one-time exception, but before you know it, cash flow is tight and you’ve gone into debt.
In this core principle, you lock away your profits and tax in another bank account, out of sight out of mind, so you aren’t tempted to steal from it.
- Enforce a Rhythm
Peaks and valleys happen in business. If you don’t have a system in place to manage your cash flow, you may end up making bad decisions – i.e. spending more money than you should when you have a spike in income, then hitting a valley and being desperate for cash.
Profit First for Contractors gets you off the cash flow roller coaster with the 10/25 Rule.
The 10/25 Rule says that you allocate 100% of your income every two weeks (on the 10th and 25th) to your bank accounts, pay your bills, and then get back to running your business.
This creates a rhythm. You’ll see how much money came in over the past two weeks and say to yourself, “Why is this more than the previous two weeks?” Then, you figure out why and replicate it.
When the opposite happens, you’ll ask: “Why is our revenue lower than it was two weeks ago?” Then, you’ll fix whatever is causing the issue.
The 10/25 Rule allows you to spot the trends in your business, predict cash flow, and pay your upcoming bills without needing to contact your CPA or run some complicated accounting report.
The 5 Foundational Accounts
The 5 Foundational Bank Accounts are: Income, Profit, Tax, Owner’s Compensation and Operating Expenses (OPEX). These are listed in order of their importance to your business, and each one serves your business in a specific way.
This is just a pass-through account. Every two weeks (on the 10th and 25th) this account goes to zero because you will allocate all the revenue to the other bank accounts.
This is the reason you are in business. Without profit you have no business. Profit must come first.
When you make a profit you will pay taxes. Paying taxes, as painful as they may be, are a sign of a profitable business.
- Owner’s Compensation
You, the owner, are the most important employee. Without you there is no business. I know you love your people, but you have been an unpaid employee in a profitless business long enough. You must pay yourself the market value of the work you do IN your business.
- Operating Expenses
This account comes last even though it might be the largest account. From it you pay your bills. When the OPEX account is dangerously low, this is your business screaming at you to operate differently. Don’t steal from your more important accounts or your profits. That’s the reason you are in business.
The 3 Rules of Profit First for Contractors
Now that you have your foundation in place, it’s time to crunch the numbers.
- Your Income is 100% of Your Budget
If you spend more than 100% of the money that comes into your business, you are going to have problems. You will have to borrow money, steal from future jobs, or borrow from past profits. Don’t operate your business like this.
- Play the Percentages
For every dollar of income, some percentage of that dollar is spent on something. You must understand when and how these percentages are affected by the increase or decrease in income. Business is a game. Play the percentages
- Start Small
You’ve heard the old saying, “Go big or go home.” Not here. The key to permanent profitability is small, consistent steps, over time. Start with a goal so small it’s impossible to fail.
The first step in implementing the Profit First for Contractors system is setting up a PROFIT account at your bank and moving 1% of your balance to that account.
Yep. It’s a small thing, but it’s a start.
Using the 4-5-3 Framework
If you want to break The Craftsman Cycle® and make your construction business permanently profitable, then start using the 4-5-3 framework.
Get your PROFIT account set up at your bank.
Transfer 1% of your bank balance into your PROFIT account.
Don’t touch that money.
It will be there at the end of the month, then end of the quarter, and the end of the year.
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UNDERSTANDING YOUR FINANCIAL REPORTS
Cash flow management and understanding your financial reports is confusing at best and downright frustrating at worse because the financial reports for a construction business, well, they’re open to interpretation. It really depends on who’s doing the reporting and does that person understand how it is that you make money in construction? Because if they don’t, then your books, well they may be technically correct, but they’re still going to be confusing and frustrating for you. That’s why the Profit First for Contractors System is profoundly simple and it’s so effective. See, I believe that contractors should be as good at business as they are at their craft and the key to understanding how the financial side of your business works is the Profit First for Contractors System.
THE 4-5-3 FRAMEWORK FOR PROFIT FIRST FOR CONTRACTORS
So, as I’ve taught this cash flow management system through the book and across the United States at my live events, I have started to develop this framework. And before, the framework consisted of two parts, the four core principles and the five foundational bank accounts. But now, I’m realizing that we’re adding another level to the framework as far as how I teach it so that you can think about it like that. And that’s what I want to tell you about here, is we think about it as the four, five, three. So, four core principles, five foundational bank accounts and the three rules of Profit First for Contractors.
THE FOUR CORE PRINCIPLES OF PROFIT FIRST FOR CONTRACTORS
So real quick, let’s do a recap of the four, the five and I’ll tell you about the three. The four core principles are small plates, serve sequentially, remove temptation and enforce the rhythm. So, the small plates, that’s just where we’re going to go from one bank account to multiple bank accounts.
Serving sequentially, well, we’re going to use those bank accounts to take care of the most important aspects of our business first. Income, profit, tax, owner’s compensation and then the operating expenses, right?
So, then the third principle is to remove temptation. Now that you are making a profit and you’re going to have to pay some taxes on that profit, we need to lock that away. We need to remove the temptation when things get hard, and they will get hard, as our business goes through its normal cycle, we want to remove the temptation to steal from that money that’s just sitting there for our profit and our taxes. So, we lock that away.
And the fourth core principle is to enforce a rhythm. Every two weeks on the 10th and 25th, we go into our bank accounts, we allocate the money, we pay our bills, we take a look at a few things and then we’re back to work. We’re back to operating our business so we can focus on what it is that’s generating the income and the profits for our business. That’s it. The four core principles, small plates, serve sequentially, remove temptation and enforce a rhythm.
THE FIVE FOUNDATIONAL ACCOUNTS
And the way that we do that in Profit First for Contractors is with the five foundational bank accounts. So, remember the core principle number two about serving sequentially, here are the five accounts and they are set up to serve our business in the order of priority. So, money comes into the business, that’s our income account, number one, but the income account is just a pass through account. So, money’s going to come into there, it’s going to sit there for a couple of weeks and then on the 10th and 25th, remember when we enforce a rhythm, then we’re going to allocate that money to the different accounts. So, account number one is the income account.
Now, we’re going to deal with the most important aspect of our business. That is the profit. So, we have a profit account. We’re going to set aside some money in our profit account depending on as you go through the system and you go through the program, determine what your profit needs to be right now and that’s going to increase over time, but we set aside our profit in another account.
Then when we make a profit, then you will pay taxes. And I know paying taxes has been painful in the past, but what you have to realize in the Profit First for Contractor System taxes, paying your taxes, having the money sitting in a bank account, it actually becomes rewarding because taxes are a sign of a profitable business. So, we can remove the stress and the misery and the mystery surrounding paying our taxes. When whenever we set aside our profits, well, we set aside a percentage for our taxes as well. And that’s what the Profit First for Contractors training program shows you exactly what those percentages need to be.
Now, we’ve taken care of our income, our profit, our taxes, now we need to take care of the most important employee and that’s the owner. And the way that we do that is with the fourth bank account in owner’s compensation. See, if you as the business owner aren’t paying yourself enough to replace yourself, let’s say that you got hit by a bus. Could you hire somebody to come in and work and do all of the jobs that you do in your company for what you’re paying yourself? A lot of times the answer is no. So, we’ve got to correct that and make sure that you’re compensating yourself for the value that you’re giving away to your clients. So, that’s the fourth bank account, is the owner’s compensation. You are the most important employee and without you there is no business. So, we have to compensate you correctly for the value that you bring to the business.
And then finally, the last thing, now that we’ve paid our taxes, we’ve set aside our profits, we’ve taken care of the most important employee, well, the only thing left is to pay some bills, is to operate the business. So, that’s the operating expense or the opex account. And even though this is probably the biggest account, meaning it has the most money in it, it’s actually least important because of the sequence that we’ve set up, income, profit, taxes, owner’s comp, then, whatever’s left over, that’s how we run the business. And, if you don’t have enough money in your opex account, then you don’t steal from the other accounts. You don’t take away from the most important employee. You don’t steal from your profits. That’s the reason you’re in business, you don’t take from your taxes because the government will come running and you don’t take from the income, meaning you don’t steal from future jobs. If you don’t have enough money in the opex account, you change the way you operate.
THE THE THREE RULES OF PROFIT FIRST FOR CONTRACTORS
So, that’s four, five, the five foundational accounts, now to the three rules. Here are the three rules of Profit First for Contractors that really completes this framework, but we’re calling it Profit First for Contractors framework. Rule number one, and it’s very straightforward, your income is 100% of your budget. What that means is all of the money that comes into your business, that’s your budget. If you spend any more than that, if you spend more than 100% of the money that comes into your business, then you’re going to have problems.
Now, you might be saying, well, Shawn, that’s pretty basic, that’s pretty fundamental and I’m saying, “Yes. That’s exactly why it’s the first rule” because a lot of times when we don’t understand the financial reports, we don’t understand that we’re spending more money than what’s coming in because we see some positive numbers or we just don’t understand what the numbers are in our financial reports. So, if you had $1 million that comes in between January 1st and December 31st ,if you spend more than a million dollars, I don’t care on what it is, you’re going to have problems. Okay, so, rule number one, your income 100% of your budget.
Rule number two, play the percentages. The way to think about cash flow management and it plays off a rule number one is, every dollar that comes into your business, a certain percentage of that dollar is spent on different aspects of your business. And you need to know what those percentages are. What are your percentages of cost of goods sold, what are your percentages of expenses, what is your percentage of net profit before taxes? What’s your percentage of net profit after taxes? You have to know these percentages because as your business grows, the percentages may change. They probably will change.
When you’re a small business, then your expenses might be pretty large, but then as you grow and you actually become more efficient, than your expenses as a percentage may get lower, even though the dollar amount gets higher. So, you have to understand that’s rule number two. You got to play the percentages. You have to understand how the percentages work in your construction business and don’t fall for this industry standard crap. There are no industry standards. You need the standards that it takes for your business to make a profit and nobody else has got your business. So, you can understand that when you play the percentages. That’s rule number two.
And rule number three, this is where Profit First for Contractors always begins. Rule number three of Profit First for Contractors is to start small. In fact, you start so small, you set a goal so small it’s impossible not to do. That’s why in the first chapter of the book we say, “Go create a profit account and set aside 1% of your bank balance and start there.” And when you get through the book and you’ve crunched all your numbers, you’ve set your targets, you know where you’re going, you know how to adjust your prices. The way that you get there, you start here and there’s a big gap. There’s always a big gap and I understand that, but the way that you get there is you small steps, quarter by quarter, month by month, and year by year, you will get there and it’ll happen faster if you adhere to rule number three, that is start small.
So, that is the Profit First for Contractors framework for cash flow management. Remember four, five, three. The four core principles, the five foundational accounts and the three rules. And just to recap, the three rules are number one, your income is 100% of your budget. Number two, play the percentages. And number three, start small.
If you want some more help in implementing cash flow management in your construction business, then go enroll in the Profit First for Contractors training program, the links are down below. And when you enroll in the program, not only will you get over 35 video lessons taught by me, you’ll also get access to our private Facebook group where you can get coaching from me and my team.
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Shawn Van Dyke is a construction industry consultant, business coach, and mentor to construction business owners. He is a Brand Ambassador for Fine Homebuilding, travels across the US as a keynote speaker, seminar presenter, and the author of two books – Profit First for Contractors and The Paperwork Punch List: 28 Days to Streamline Your Construction Business.
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